Time to rotate your investments

Commentary: Rotation not limited to sectors alone

RonRowland

The financial press tends to treat the market as an ocean, focusing on the major market indexes, which only provides a view of the surface and causes many investors to miss what may be happening below the surface.

Over the course of an economic or market cycle, various sectors and industries come into favor and fall out of favor. Although the direction and movement of the overall market can have a significant effect on the performance of individual sectors, most of them also exhibit some degree of independence.

The lack of unison in these undercurrents is what market watchers call sector rotation.

This rotational phenomenon is not limited to sectors. My research shows that investment styles also exhibit a level of independence as they cycle through periods of being in favor and out of favor.

The same can be said about various countries and regions as well as various subsets of the bond market. I believe that the best way for investors to easily, efficiently, and economically take advantage of these rotations is by using mutual funds and exchange-traded funds, or ETFs.

Sector rotation

Nine months ago, in late March 2003, a bullish market movement got underway. At that time, I noted that the sector displaying the most leadership was technology, and within the technology sector, semiconductors were among the strongest industries.

I recommended funds like Rydex Electronics
RYSIX, -1.19%
and Goldman Sachs Semiconductor IShares
IGW, -19.87%
which have provided excellent returns for investors that stepped up to the plate. While semiconductors have remained fairly strong, the remainder of the technology sector has begun to fade.

The market has now entered another rotational phase with the industrial sector now providing the market with leadership. Funds like Fidelity Select Industrial Equipment
FSCGX, -0.72%
Rydex Basic Materials
RYBIX, -0.91%
and S&P Materials Sector SPDRs
XLB, -0.99%
provide an excellent way to capture this current strength.

Style rotation

Style rotation is much more subtle than sector rotation, but with the proper strategy, it can be just as powerful.

The year 2003 has witnessed small caps as the leading investment style. Earlier in the year, small cap growth was the strongest style with strength slowly moving toward the small cap value corner as the year progressed.

I am not ready to abandon small cap stocks yet, but strength has now shifted to mid-cap value. S&P Barra Mid-Cap Value IShares
IJJ, -0.43%
and ProFunds Mid-Cap Value
MLPIX, -0.36%
are two of my favorite funds at this time and are ideal for investors wanting to emphasize this style in their portfolios.

International rotation

International rotation is often the most pronounced type of market rotation as various countries and regions typically display little or no correlation to other geographic areas.

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